Monday, May 10, 2010

Replay of Bear/Lehman Last Week

Except that the replay was on a MUCH bigger scale.

...The governments bailed out the banks in September 2008, and again in various increments through the Spring of 2009. The great Keynesian stimulus that was supposed to guarantee recovery left most industrial countries with government deficits in excess of 10% of GDP. How does the US finance a deficit equal to 12% of GDP with a savings rate of 2.5%? By bank leverage. The banks, once bailed out by the governments, in turn bail the governments out. And when the weaker governments threaten to go belly up, the banking system freezes up.

The cost of insurance against defaults by European banks reached an all-time record for that reason last Friday, and banks stopped lending to each other on the interbank market – portending an imminent collapse of the financial system. That was not a drill. It was the real thing. And that is why the European governments shifted from official complacency only days ago to total mobilization mode. ...

Spengler, by the way, is not an optimist. Read the rest. It all starts with babies.

1 comment:

J. Strupp said...

Keynesian stimulus was not supposed to guarantee recovery. Especially stimulus that's too small.

The rest seems about right. Episodes of sovereign default usually follow severe financial crisis as private sector losses are socialized. Sovereign defaults usually lag the initial crisis by a couple of years as tax receipts/growth plummets and shakey governments slip into insolvency.

Good times.